Government Must Allow Greater Fuel Price Adjustments

Editorial Summary: Business Standard argues that Iran-Israel war disruption in the Strait of Hormuz has driven crude oil higher, forcing India’s state-run Oil Marketing Companies into mounting under-recoveries while the government hesitates on full pass-through. Price controls are fiscally and macroeconomically unsustainable. The right policy response is targeted, time-bound subsidy support — not blanket price suppression — combined with accelerated Strategic Petroleum Reserve expansion, crude source diversification, and acceleration of ethanol, EV and green hydrogen alternatives.

India’s Structural Crude Exposure

India is the world’s third-largest crude oil consumer and one of its largest importers.

The arithmetic is brutally simple: when crude prices rise by $10 per barrel, India’s annual import bill rises by roughly $15 billion at current import volumes, with cascading effects on the current account deficit, the rupee, inflation, and consumer purchasing power.

The Strait of Hormuz Disruption

The June 2025 Iran-Israel war episode reactivated the latent risk that the global oil market has lived with for decades — the disruption of the Strait of Hormuz.

Why Hormuz Matters

• Geography: Roughly 21 miles wide at its narrowest, the Strait connects the Persian Gulf to the Gulf of Oman and the open Indian Ocean
• Traffic: Roughly 20% of global oil and 25% of global LNG transit Hormuz
• No bypass for most volumes: While some Gulf producers have alternative export routes, the bulk of Saudi, UAE, Kuwaiti, Qatari, Iraqi and Iranian crude flows through Hormuz

Alternative Routes Mitigate but Do Not Eliminate Exposure

Alternative routes can handle a fraction of normal Hormuz volumes, not all of them. Disruption is therefore a price event before it is a supply event — markets price in tail risk even when physical shipping continues.

India’s Crude Sourcing Pivot

The most significant structural change in India’s oil import basket has been the post-2022 pivot to Russian discounted crude.

• Pre-2022 Russian share: under 2% of India’s basket
• Current share: approximately 30%+, making Russia India’s single largest supplier in many recent months
• The discount margin — varying by grade and time — has provided India with both fiscal headroom and a degree of insulation from West-Asia-centric shocks

This pivot has been politically calibrated — India has not joined Western sanctions but has also not exposed itself to secondary sanctions risk — and economically consequential, materially reducing the FY24-25 import bill below counter-factual scenarios.

China continues large-scale Iran-China oil flows under sanctions-evasion arrangements, with roughly $300 billion in annual crude-and-related trade across multiple channels — a market-shaping factor that affects global price dynamics even where India does not participate directly.

India’s Fuel Pricing Regime — The Political Economy

India’s domestic petrol and diesel pricing has been formally dynamic since June 2017, when daily revision by OMCs (Indian Oil Corporation, Bharat Petroleum, Hindustan Petroleum) replaced the earlier fortnightly cycle. In practice, the dynamism has been suspended at politically sensitive moments.

The Freeze Cycles

• 2018-19: Prices effectively frozen around the 2019 general election period despite global crude movements
• 2022: Suspended adjustments around the Russia-Ukraine crude spike
• 2024: Frozen through the 2024 general election cycle

During these periods, OMCs absorb the difference between international cost and domestic retail price as under-recoveries — an implicit subsidy carried on PSU balance sheets rather than the Union Budget.

The Excise and VAT Layer

State Value Added Tax (VAT) on petrol and diesel varies materially across states, creating inter-state retail price differentials of several rupees per litre. The fragmentation has political utility but undermines a coherent national pricing signal.

The Under-Recovery Mechanism — Old Wine, New Bottle

The implicit subsidy through OMC balance sheets is not a new phenomenon.

• The oil bonds era (UPA period): The government issued oil bonds of roughly ₹1.5 lakh crore to OMCs to compensate for under-recoveries. The bonds matured later, creating fiscal pressure across subsequent budgets.
• The current era: Under-recoveries appear directly on OMC profit and loss statements; recent quarters have shown losses on petrol and diesel sales for one or more OMCs; capex deferrals, debt accumulation, and dividend pressure follow.

The substance — public-sector enterprise absorption of consumer subsidies — is the same. The form has shifted from explicit bonds to implicit balance-sheet stress.

The Fiscal Cost of Suppression

The fiscal cost of price suppression has been substantial.

• 2022-23: ~₹22,000 crore LPG subsidy to OMCs, alongside ad hoc petrol-diesel relief
• 2024-25: PMUY LPG subsidy expanded to cover Ujjwala beneficiaries with reduced refill price; partial excise cuts as a relief option

These are not the only costs. OMC capex deferrals delay refinery upgrades, retail expansion, and clean fuel transitions. Reduced OMC profitability lowers dividend flows to the government and depresses public-sector share prices.

Cross-Country Comparison

China’s model — a transparent adjustment band with a defined ceiling — is the closest comparator for an Indian price-band mechanism that combines consumer protection with fiscal discipline.

Strategic Petroleum Reserves — The Hedge

India’s Strategic Petroleum Reserves (SPR) programme is the most direct hedge against external supply shocks.

The SPR programme is operated through the Indian Strategic Petroleum Reserves Limited (ISPRL), a special-purpose vehicle. Achieving the 90-day IEA norm requires both physical capacity expansion and the operational readiness to draw down stocks during disruptions.

The Demand-Side Hedge

India’s structural import dependence cannot be reduced by sourcing alone. Demand-side substitution is the only durable hedge.

Each percentage point of ethanol blending reduces petroleum demand by a roughly proportional amount; the carbon and import-substitution gains are material at the national scale.

Way Forward

Business Standard’s recommended sequencing:

1. Phased pass-through — calibrated to international price movement, with daily revision restored in substance and not just in form
2. Targeted PMUY-style subsidy support for vulnerable households on LPG, sustained through a defined fiscal window rather than open-ended
3. Transparent price-band mechanism — defined adjustment corridor with publicly announced ceiling and floor reference points
4. Accelerated SPR expansion toward the IEA 90-day norm via Padur Phase II, Chandikhol, and proposed new sites at Bikaner, Mangalore expansion, and Bina
5. Deeper crude diversification — beyond West Asia, with continued Russian discount capture and expanded West African, Latin American and US sourcing
6. Demand-side acceleration — E30 implementation, EV adoption, green hydrogen, biofuel scale-up
7. Transparent OMC disclosure of under-recoveries to end the era of implicit balance-sheet subsidies

UPSC Mains Analysis

GS Paper 3 — Economy and Energy Security

• Energy security: import dependence, crude sourcing diversification, SPR
• Fiscal policy: oil bonds legacy, implicit subsidies, PMUY targeted support
• Inflation management: pass-through, price-band mechanisms
• Energy transition: ethanol blending, EVs, green hydrogen

GS Paper 2 — International Relations

• Strait of Hormuz geostrategy
• Russian crude pivot, sanctions navigation
• Iran-India relations, Chabahar Port
• Energy diplomacy with Saudi Arabia, UAE, Iraq

Keywords: Strait of Hormuz, Iran-Israel war 2025, dynamic pricing 2017, oil bonds, under-recoveries, PMUY, Strategic Petroleum Reserve, ISPRL, IEA 90-day norm, Padur Phase II, Bikaner-Bina SPR, Russian discounted crude, E20, E30, National Green Hydrogen Mission 2023, PM e-DRIVE, FAME II.

Editorial Insight

Price suppression is fiscally cheap in the short term and fiscally expensive in the long term — the difference between the two appears on PSU balance sheets, in delayed capex, and in deferred energy transition investment. Business Standard’s deeper argument is that India’s response to external oil shocks must be sequencing, not silence: phased pass-through plus targeted subsidy, transparent price-band plus accelerated SPR, crude diversification plus demand-side substitution. The shock from Hormuz is a forcing function. The question is whether India uses it to consolidate the structural energy transition or to repeat the freeze-and-absorb cycle one more time.

Source: Business Standard